Chapter 1

CALIFORNIA COULD IMPROVE ITS DETECTION OF WORKERS’ COMPENSATION FRAUD

Chapter Summary

As we indicate in the Introduction, a key step in combatting workers’
compensation fraud is its detection. Nonetheless, we identified weaknesses
in the processes CDI, Industrial Relations, and insurers use to detect
fraud. For example, CDI does not currently take advantage of a key
indicator that could help it identify and audit insurers that may not be
adequately reporting potential fraud. Specifically, although state law
requires insurers to investigate suspected fraud and refer to CDI and
district attorneys’ offices those claims that show reasonable evidence of
fraud, insurers vary significantly in the number of referrals they submit.
Of the 21 insurers that we examined, eight submitted one or fewer referrals
per $10 million in earned premiums for at least one of the two years we
examined.6 Low
referral rates could indicate that insurers are not referring suspected
workers’ compensation fraud, leaving this potential fraud uninvestigated.
However, CDI does not use the rate of insurers’ submissions of referrals as
a tool to assess risk when identifying those insurers it will audit.

In addition, Industrial Relations has not fully documented its procedures
for implementing a critical tool for combatting workers’ compensation fraud
by providers. Provider fraud cases can continue unnoticed for years, and a
single case can cost an insurer millions of dollars. To more quickly
uncover such fraud, Industrial Relations is in the process of implementing
data analytics, which will allow it to examine large volumes of data.
However, Industrial Relations is still in the beginning stages of its
implementation and has not yet fully documented how it will identify
potential fraud and use the results of such examinations. Because data
analytics has the potential for high rates of return, Industrial Relations
should fully document its data analytics efforts as soon as possible.

Finally, California can further improve its fraud detection efforts related
to workers’ compensation by requiring insurers to periodically issue
explanation of benefits statements (EOB statements) to injured employees.
These statements itemize the types of services rendered, the dates
employees received the services, and service fees paid on their behalf. EOB
statements provide injured employees with the opportunity to review the
services for which providers bill and to identify potentially fraudulent
charges.

Some Insurers Are Significantly Less Likely Than Others to Report Suspected
Workers’ Compensation Fraud

Despite a requirement that insurers refer to CDI and district attorneys’
offices those claims that show reasonable evidence of fraud, the number of
referrals insurers submit varies significantly, leading us to question
whether some insurers are reporting all suspected fraud. By law, every
insurer must have or use a special investigative unit to pursue instances
of suspected fraud. State law further requires that within 60 days of
having a reasonable belief that a claim may be fraudulent, an insurer must
submit a referral to both CDI and the district attorney’s office where the
loss occurred. We expected that those insurers with relatively higher
amounts of earned premiums—indicating that they likely process more
workers’ compensation claims—would also have generally higher frequencies
of referring suspected fraudulent claims to CDI and the district attorneys’
offices. However, our review found that referral rates varied
significantly.

According to the 2016 Annual Report of the Commissioner, referrals
are CDI’s primary source of leads for workers’ compensation fraud
investigations. CDI can receive referrals from anyone: insurers, employers,
employees, medical providers, and the general public. Referrals can be for
any type of workers’ compensation fraud: employee, employer, medical
provider, and others. Referrals most often involve employee fraud; the
numbers of employer and provider fraud referrals are also considerable.
Table 5 provides more information regarding referrals for fiscal years
2013–14 through 2016–17.

In our April 2004 audit report
Workers’ Compensation Fraud: Detection and Prevention Efforts Are
Poorly Planned and Lack Accountability
, Report 2002‑018, we concluded that some insurers appeared to underreport
suspected workers’ compensation fraud while others appeared to regularly
refer suspected fraudulent claims. We found that although five of the 23
insurers we reviewed during that audit referred more than one claim per $1
million in earned premiums, some of the remaining 18 insurers might have
been failing to fulfill their responsibilities to refer suspected fraud,
including some that did not submit a single referral during one or more of
the years in our audit period. We also identified barriers that might
prevent insurers from consistently referring suspected fraud and
recommended that CDI take steps to address these barriers.

Table 5
CDI Receives Thousands of Fraud Referrals Each Year
Fiscal Years 2013–14 Through 2016–17

Note: Due to rounding, the percent columns may not equal exactly 100
percent when added.

* Medical Provider also includes referrals related to pharmacies.

During our current audit, we continued to see significant variation in the
rates at which insurers submitted referrals, leading us to believe that
some insurers may be underreporting fraud. As Figure 6 shows, we calculated the referral rates for 21 insurers that each had
more than $150 million in earned premiums for 2015 and 2016. In 2016 these
insurers collectively earned almost $8 billion in premiums and represented
62 percent of workers’ compensation earned premiums in California. For the
two years we reviewed, the insurers’ referral rates ranged from a high of
11 referrals per $10 million in earned premiums to a low of no referrals,
while the actual number of referrals ranged from more than 350 to zero. Of
the 21 insurers, eight submitted one or fewer referrals per $10 million in
earned premiums in at least one of the two years we examined. Because of
the high amount of estimated fraud in the workers’ compensation system, the
rates we observed for these eight insurers seemed low and could indicate
that they are not referring suspected workers’ compensation fraud. These
eight insurers collectively had $3.9 billion in earned premiums in 2016,
which represented 31 percent of workers’ compensation premiums in
California.

Figure 6
Fraud Referral Rates by Large Insurers Vary Significantly

Sources: California State Auditor’s analysis of referral data from CDI’s case management system and of premium data from CDI’s market share reports.

We believe that when an insurer with over $150 million in annual earned
workers’ compensation premiums submits few or no referrals during a year,
it should at least prompt CDI to make an inquiry. Because insurer referrals
are the primary method the State uses to initiate investigations into
suspected fraudulent workers’ compensation claims, we asked CDI whether it
was aware of the relatively low referral rates by these eight insurers,
whether it knew why the referral rates were so low, and whether it was
reasonable for the referral rates to be so low. The manager who oversees
CDI’s compliance office (compliance manager) indicated that a low number of
referrals by itself does not mean that the insurer is not detecting,
investigating, and then referring suspected fraud to CDI. Instead, a low
number of referrals may be attributable to other factors, such as the
insurer having few California claims. The compliance manager further stated
that the reasons for low referral rates may vary based on lines of business
and specialized insurance products. However, when we interviewed a senior
executive with an insurer, he stated that the cost of the special
investigative units is a factor affecting the quantity of referrals and
that certain insurers invest only enough to comply with regulations, while
others are vigorous in fighting fraud. The compliance manager agreed that
insurers’ attitudes toward fraud may play a role, stating that some are
committed to combatting it while others accept it as a cost of doing
business.

Other entities have called attention to certain insurers’ actions by
publishing reports on the insurers’ performances. For example, Texas law
requires that the Texas Department of Insurance publish a periodic report
card that evaluates specified workers’ compensation health care provider
networks on the cost and the quality of medical care provided to injured
workers. Similarly, California law requires Industrial Relations to publish
the result of its Profile Audit Review in an annual report that lists the
insurers it audited in that year, identifies how each scored, and ranks how
each performed based on the audit. We believe a comparable public report
that rates insurers’ antifraud efforts could motivate insurers with minimal
compliance to improve and could also better inform consumers about
insurers’ fraud‑fighting efforts—or lack thereof.

Although California regulations require insurers to submit annual reports
to CDI regarding the performance of their special investigative units, CDI
does not currently screen these reports for low referral rates relative to
other insurers. The regulations require these reports to include the number
of claims the insurers processed, the number of claims they referred to
their special investigative units, and the number of incidents of suspected
insurance fraud they reported to CDI and district attorneys’ offices for
the past calendar year. The annual reports also provide overviews of the
special investigative units’ organizational arrangements of antifraud
personnel; descriptions of the units’ staff expertise and how that
expertise meets CDI’s requirements; descriptions of the units’ methods of
investigation and written procedures for detecting, investigating, and
reporting suspected fraud; and the units’ plan for initial and ongoing
training for integral antifraud personnel. CDI’s compliance office’s
procedures indicate that staff analyze these reports for discrepancies and
noncompliance issues. However, the compliance manager stated that CDI does
not evaluate the reports for low referral rates relative to other insurers.

In addition, CDI periodically examines insurers’ special investigations
units; however, it does not ensure that it selects large insurers with low
referral numbers when planning its audits. According to CDI’s compliance
review program, the compliance office is responsible for reviewing over
1,100 insurers and their special investigative units. CDI has staffed its
compliance office with four to six auditors for the last 10 years.
According to the compliance manager, CDI’s management decides which
insurers to audit. He also indicated that because of limited staff, CDI
uses a risk‑based approach when selecting insurers for review. Some of the
risk factors CDI considers are the length of time since an insurer’s last
audit, the insurer’s market size, any complaints CDI has received, and
information in the insurer’s annual report for its special investigative
unit. The compliance manager supplied a schedule showing that the
compliance office has averaged roughly 12 audits per year for the last four
years. Because of the large number of special investigative units and the
small number of CDI audit staff, the compliance office could benefit from
using an audit selection criterion that compares large insurers’ referral
rates with those of their peers. Since fiscal year 2013–14, CDI’s
compliance office has examined four of the eight insurers we selected that
had a rate of one or fewer referrals in either 2015 or 2016. Following
CDI’s disclosure of the results of these examinations, two of the insurers
increased the number of referrals they made, while the other two did not
meaningfully change the numbers of their referrals.

Industrial Relations Has Not Yet Fully Documented the Procedures for Its
Provider Fraud Data Analytics Efforts

Provider fraud cases can continue unnoticed for years, and a single case
can cost insurers millions of dollars. To better fight this type of fraud,
the State is in the process of implementing data analytics to predict which
providers may be committing workers’ compensation fraud. Two consultants,
which CDI and Industrial Relations commissioned, specifically recommended
in 2008 and again in 2017 that Industrial Relations explore and implement
data analytics. According to one of the consultants, data analytics is a
rapidly developing field of information science that involves intensive
examination of large volumes of data to discover deeper insights, make
predictions, and generate recommendations.

Industrial Relations’ Anti‑Fraud Unit recently began using data analytics
both to support new laws enacted in 2016 that related to workers’
compensation liens and to uncover previously unidentified provider fraud.
Its efforts related to uncovering new provider fraud are still in the
nascent stages. According to Industrial Relations’ documentation, the
Anti‑Fraud Unit has a team responsible for implementing data analytics. The
Anti‑Fraud Unit performs both descriptive and predictive analytics.
Descriptive analytics is a tool that can help identify patterns of past
behavior among providers—in other words, what happened—while predictive
analytics is a tool that can help identify possible patterns that indicate
provider fraud—in other words, what could happen. Industrial Relations told
us that as of October 2017, it had provided two lists of potentially
fraudulent providers that its data analytics effort had identified to CDI.
CDI is then responsible for matching these potentially fraudulent providers
to its current investigations. The assistant chief of CDI’s Fraud Division
told us that CDI already had investigations underway for most providers on
the first list and that CDI had forwarded this list to its regional offices
for their review. She also stated that although CDI was still checking the
second list against its internal information, it was confident that the
second list would uncover previously unknown provider fraud.

Despite the potential value of the lists it has already produced, we
believe that Industrial Relations could do more to ensure the success of
its data analytics efforts. Specifically, it has not yet fully documented
the procedures for these efforts, resulting in a lack of specificity about
how it intends to move forward. For example, when we requested a plan for
its data analytics efforts, Industrial Relations provided only draft
processes for the Anti‑Fraud Unit that did not include any specifics
related to data analytics; an undated, one‑page draft schematic of the
feedback loop for when data analytics identify suspicious activity; and a
list of seven indicators that other providers convicted of fraud exhibited.
Industrial Relations later provided a final protocol manual for its
Anti‑Fraud Unit and its activities. However, this protocol manual included
only limited information about data analytics and did not explain how
Industrial Relations intends to refine its data analytics through
discussions with CDI or include timelines for that refinement.

Data analytics is a promising tool with a potentially high rate of return.
Moreover, Industrial Relations’ effective implementation of data analytics
is critical because provider fraud imposes serious financial costs on
consumers, businesses, and government. Thus, Industrial Relations should
better document its procedures for its data analytics efforts as soon as
possible to better ensure the success of those efforts. Its procedures
should include a description of how it will adjust its protocols as
necessary, depending on the results of its efforts.

By requiring insurers to periodically provide EOB statements to injured
employees, California could enlist those employees in its battle against
workers’ compensation fraud. As the Los Angeles County District Attorney’s
Office (LA District Attorney) stated, a number of vulnerabilities in the
workers’ compensation system are readily identifiable, including the lack
of review by the patients who purportedly received the services, equipment,
or medications for which providers submit claims. This lack of review
creates the potential for serial billing, in which providers bill multiple
insurance carriers for the same services. The LA District Attorney
concluded that instances of serial billing are likely to continue unless
red flags are identified that might lead to greater scrutiny of or even
denial of the billed charges. The periodic provision of EOB statements
would allow injured employees to provide this type of red flag.

Certain government agencies and some insurers outside of the workers’
compensation program already use EOB statements to help fight fraud. For
instance, the U.S. Centers for Medicare and Medicaid Services provides
quarterly EOB statements to beneficiaries under its Original Medicare
programs at least in part to fight health care fraud.7
According to health care antifraud literature, Medicare beneficiaries have
discovered fraud through reviewing their EOB statements. The concerns that
the beneficiaries raised have resulted in prosecutions, convictions, and
the recovery of funds. Similarly, California law requires insurers
providing disability insurance, including those providing health insurance,
to provide EOB statements to people submitting insurance claims
(claimants).

According to key players within the health care system, not providing EOB
statements to patients gives providers who want to commit fraud an easy
means of doing so. According to the Ponemon Institute’s 2015 Fifth Annual Study on Medical Identity Theft, in 2014 the third
most common method through which victims discovered medical identity
theft—the use of an individual’s identity either to fraudulently receive
medical services or drugs or to commit fraudulent billing—was through
detecting errors in their EOB statements.8
Further, the LA District Attorney stated within its grant application for
the Workers’ Compensation Insurance Fraud Program that it actively
advocates the value that quarterly EOB statements provide to injured
employees. The LA District Attorney also stated that outreach and training
to inform the public about the workers’ compensation system and the
information available through EOB statements are essential.

Although the Legislature can require insurers to provide EOB statements,
both CDI and Industrial Relations have expressed concerns about the
statements’ usefulness and cost‑effectiveness. Specifically, CDI stated
that while providing EOB statements to injured employees could help reduce
billing for services that were not provided, the impact would depend on the
injured employees’ interest in reviewing the EOB statements. It believes
that this interest might be limited by the fact that employees are not
liable for any of the costs related to services they receive through
workers’ compensation. However, CDI would support further consideration of
whether EOB statements would be a cost‑effective means of identifying
workers’ compensation fraud and whether they would be duplicative of
existing disclosures. Further, CDI’s website states that it encourages
consumers to review their EOB statements for other lines of insurance and
to report billing for the following: treatment that was not provided,
medical tests or evaluations that were not conducted, medical supplies that
were not provided, office visits that never occurred, cancellation charges
for office visits that were not scheduled, and pharmaceuticals that were
never received.

In contrast, Industrial Relations’ director (director) stated that her
department examined the viability of requiring insurers to send EOB
statements and concluded that it would be more effective to impose notice
requirements, such as EOB statements, on those medical providers who may
treat injured employees without the employers’ or insurers’ knowledge. She
explained that this type of medical care may be more vulnerable to fraud
and abuse and that it would help the workers’ compensation system to
require providers rendering treatment in this manner to promptly issue
notices to all parties (including employees, employers, insurers, and
Industrial Relations). The director further stated that existing
controls—including fee schedules, independent medical and bill reviews, and
utilization reviews—provide effective controls for care provided within the
system under accepted claims, and that such care would not be improved by
the issuance of EOB statements. The director also stated that the cost of
EOB statements would place a burden on those operating in compliance with
the system and might lead to an increase in premiums. Industrial Relations,
however, did not provide evidence sufficient to support the director’s
statements. Further, we question whether providers that are more apt to
commit fraud would issue accurate and complete EOB statements to all
parties.

Our research suggests that many injured employees may prove eager to assist
in the fight against fraud. For example, a 1998 report by the Office of the
Inspector General cited a Medicare survey that revealed that 74 percent of
Medicare beneficiaries said they always read their EOB statements. The same
survey found that if beneficiaries knew more about Medicare fraud, 89
percent of them would report it when they saw it. Similarly, a senior
deputy district attorney for Orange County stated that she often finds that
injured employees have no idea that they have been involved in workers’
compensation fraud schemes. She indicated that even though the insurers
incur the fraudulent charges, the injured employees are still concerned and
object to the use of their identities for others’ fraudulent gain.
According to the senior deputy district attorney, many of these individuals
stated that had they been aware of the fraudulent charges, they would have
reported them.

CDI

To reduce insurers’ potential underreporting of workers’ compensation
fraud, CDI should do the following by June 30, 2018:

Create a public report that ranks workers’ compensation insurers based on
the effectiveness of their antifraud efforts, including the rate at which
they submit fraud referrals.

Add a requirement that it consider rates of fraud claim referrals when
selecting insurers to audit and that it give priority to those insurers
with high volumes of premiums and very low numbers of referrals.

Industrial Relations

To ensure the growth and effectiveness of its data analytics efforts to
identify provider fraud, Industrial Relations should better document its
data analytics effort within its protocol manual by June 30, 2018.

Chapter 2

CALIFORNIA COULD IMPROVE ITS INVESTIGATION AND PROSECUTION OF WORKERS’ COMPENSATION FRAUD

Chapter Summary

As the Introduction discusses, CDI is the lead state agency for criminal
investigations of insurance fraud. However, vacant fraud investigator
positions limit CDI’s capacity to investigate suspected fraudulent workers’
compensation claims. CDI has a high number of vacancies for its fraud
investigators partly because its salaries for these investigators have
historically been lower than those for similar investigative positions at
other state agencies, contributing to its inability to retain investigators
and to hire new investigators quickly enough to outpace attrition. It also
lacks a retention plan. Furthermore, because district attorneys’ offices
depend on CDI’s investigators to bolster their investigative and
prosecutorial efforts, CDI’s vacancy rate directly impacts district
attorneys’ offices’ ability to investigate and prosecute cases.

Further, CDI’s vacancy rate has resulted in it underspending the workers’
compensation fraud assessment funds it has budgeted for personnel to
investigate workers’ compensation fraud. State law mandates that CDI must
receive a minimum of 40 percent of the total workers’ compensation fraud
assessment each year. Although CDI could have received a higher proportion,
in recent years the insurance commissioner and the Fraud Assessment
Commission (Fraud Commission) have awarded CDI only this minimum
allotment—$24 million per year in fiscal years 2015–16 and 2016–17.
Nonetheless, CDI was unable to spend $2.4 million (10 percent) of that
amount in fiscal year 2015–16. Instead of redirecting CDI’s unspent funds
to district attorneys’ offices that could use it to investigate and
prosecute more cases of workers’ compensation fraud, the insurance
commissioner and the Fraud Commission used the unspent funds to reduce the
assessment amounts the State collected from employers in a subsequent year.
In effect, the insurance commissioner and the Fraud Commission chose to
reduce the total amount of funds available to fight fraud rather than to
redirect the funds to the district attorneys’ offices, which could have
used it.

CDI’s capacity to investigate workers’ compensation fraud in California has
been limited by ongoing vacancies in its fraud investigator
positions. As a result of these vacancies, CDI has closed a substantial
number of referrals without investigation and potentially jeopardized the
effectiveness of district attorneys’ offices’ efforts to investigate and
prosecute workers’ compensation fraud. For example, for fiscal year
2016–17, the state budget authorized a total of 232 fraud investigators for
CDI’s Enforcement Branch, which is responsible for five insurance fraud
programs, including workers’ compensation. These positions are a
combination of investigators and supervising fraud investigators we
collectively refer to as fraud investigators. However, according
to the Strategic Vacancy Report we received from CDI, it had 63
vacant fraud investigator positions as of February 2017, resulting in a
vacancy rate of 27 percent.

Although fraud investigator vacancies caused CDI to spend less money than
it budgeted for personnel costs, they also contributed to a decrease in the
number of referrals CDI assigned for investigation and an increase in the
number of referrals it closed due to insufficient resources. According to
its July 2014 criminal activity report, CDI assigned 654 referrals for
investigation by fraud investigators during fiscal year 2013–14. However,
our analysis of its case management system indicates that it closed more
than 1,600 (28 percent) of the roughly 5,700 referrals it had received
during this period because of insufficient resources. In addition, CDI’s
July 2016 report showed that the number of new referrals CDI assigned for
investigation in fiscal year 2015–16 fell to 488, while the percentage of
referrals it closed due to insufficient resources increased to 54
percent—2,911 out of 5,366. Although the percentage of referrals it closed
due to insufficient resources decreased to 36 percent in fiscal year
2016–17, it only assigned 551 referrals for investigation that year, a 16
percent decrease compared to fiscal year 2013–14 levels. In total, CDI
received 21,178 referrals from fiscal years 2013–14 through 2016–17. As
Figure 7 shows, CDI closed 8,500 (40.1 percent) of these referrals due to
insufficient resources. The total losses insurers reported paying related
to these 8,500 referrals was about $160.8 million, or an average of about
$18,900 per referral.

Figure 7
CDI Closed 40 Percent of the Fraud Referrals It Received Due to Insufficient Resources

Our analysis found that 80.4 percent of the referrals closed due to
insufficient resources involved employee fraud and that the total losses
insurers reported paying related to these referrals were about $66.8
million, or an average of about $9,800 per referral. Although only about
7.9 percent of the referrals CDI closed due to insufficient resources
involved provider fraud, the total losses insurers reported paying related
to these referrals totaled about $48.2 million, or an average of about
$71,800 per referral. This average illustrates how costly provider fraud
can be to the system. As we mention in the Introduction, employers bear the
cost of the workers’ compensation system. Because fraud‑related losses can
result in insurers raising the premiums employers pay, businesses may in
turn increase the prices they charge consumers.

In addition, CDI’s high number of vacant fraud investigator positions can
affect the ability of district attorneys’ offices to prosecute workers’
compensation fraud cases. For example, in its fiscal year 2016–17
application to the Fraud Commission for funding to fight workers’
compensation fraud, the LA District Attorney asserted it could not
adequately process its caseload unless CDI had a sufficient number of fraud
investigators to handle the cases. From fiscal years 2013–14 through
2016–17, Los Angeles County experienced the highest number of suspected
fraudulent workers’ compensation claims of any county in the State.
However, CDI’s South Los Angeles County regional office had a 53 percent
vacancy rate for fiscal year 2015–16. In its funding application, the LA
District Attorney stated that because it could not compensate for CDI’s
resource limitations, it might have to decline new referrals, establish a
minimum‑loss qualifying criterion, or close cases due to a lack of
investigative resources. The LA District Attorney added that none of these
options serve the public interest and explained that failing to investigate
referrals, extending the time it takes to investigate cases and risking
evidence spoilage and destruction, or permitting those engaged in fraud to
continue to steal for longer periods of time are all unacceptable outcomes
that can and should be avoided.

Finally, the vacancies in its fraud investigator positions have had
ramifications beyond limiting CDI’s ability to combat workers’ compensation
fraud. In a budget change proposal for fiscal year 2017–18, CDI stated it
had the resources available to investigate just 5 percent of the annual
referrals it received across all types of insurance, including automobile;
disability and health care; property, life, and casualty; and workers’
compensation. We estimate that if CDI were fully staffed, it could
potentially investigate an additional 200 to 300 workers’ compensation
referrals per year.

Although CDI Has Taken Certain Steps to Address Fraud Investigator
Vacancies, It Has Yet to Develop a Retention Plan

CDI has acknowledged its continuing high vacancy rate is a problem and has
attempted to resolve it. For instance, CDI recognized that the salaries the
State authorized it to pay its fraud investigators were less than those
some other state agencies paid for their investigative positions. In
response, it sought and received increases that have reduced these pay gaps
as of July 2017. In addition, CDI has taken steps to create a specific team
responsible for recruiting activities, it authored both a recruitment plan
and strategic vacancy report, and it established a goal of achieving a
vacancy rate of 5 percent or less. However, because many of CDI’s
recruiting efforts are either in the planning stage or are just now being
implemented, we do not feel that enough time has passed to evaluate their
effectiveness. Further, we have concerns regarding CDI’s lack of a
retention plan and a departmentwide process for performing exit interviews
and surveys.

CDI acknowledges that the salaries the State authorized it to pay its fraud
investigators were lower than those offered by other state agencies with
similar investigative positions, which may have contributed to difficulties
in both keeping staff and attracting candidates to fill vacant positions.
In fact, CDI attributes its high vacancy rate primarily to the fact that
many fraud investigators chose to leave CDI because the pay it could offer
was significantly lower than that offered for similar sworn investigative
positions at the California Department of Justice and the California
Department of Corrections and Rehabilitation. As Figure 8 shows, our
analysis of the State Controller’s Office’s payroll data indicates that CDI
lost 98 fraud investigators from fiscal years 2013–14 through 2016–17. Of
that number, 31 joined the California Department of Justice, 14 joined the
California Department of Corrections and Rehabilitation, and 41 left state
service.9 Of
the fraud investigators that left state service, 27 were age 50 or older
and potentially eligible for retirement.

Figure 8
From Fiscal Years 2013–14 Through 2016–17, CDI Lost 98 Fraud Investigators, 57 of Whom Accepted Other State Positions

Source: California State Auditor’s analysis of payroll data maintained in the State Controller’s Office’s Uniform State Payroll System.

* Although our analysis of payroll data indicates that these employees stopped receiving regular paychecks from the State, we did not assess whether these employees were merely inactive during that time and later returned to duty.

To help address this issue, the California Department of Human Resources
(CalHR) established a pay differential that reduced the pay gap between
CDI’s fraud investigators and those at other state law enforcement
agencies, effective July 1, 2017. In fiscal year 2016–17, before the salary
increase, the high end of the salary range for CDI’s investigators was
about $7,100 per month, excluding overtime. As of August 2017, the high end
of the salary range for CDI’s fraud investigators was about $7,800 per
month, which narrowed the gap with other agencies. The top of the ranges
for comparable positions at the California Department of Justice and
California Department of Corrections and Rehabilitation were about $8,200
per month and $9,800 per month, respectively.

Further, in fiscal year 2016–17, CDI recognized the need to dedicate
resources to recruiting in order to attract qualified applicants and reduce
its vacancy rate to its goal of 5 percent or less. From fiscal years
2013–14 through 2016–17, CDI’s ability to hire new fraud investigators did
not keep up with the rate at which its fraud investigators left. As Figure
9 demonstrates, we found that although CDI lost 98 fraud investigators
during this period, it hired only 54 to replace them. According to a human
resources analyst with CDI, the background investigation process for hiring
a fraud investigator can take several months for some applicants. It
includes both an internal component at CDI and an external component within
CalHR, and CDI stated each process currently takes about three to six
months.

Figure 9
CDI Lost More Fraud Investigators Than It Hired
Fiscal Years 2013–14 Through 2016–17

Source: California State Auditor’s analysis of payroll data maintained in the State Controller’s Office’s Uniform State Payroll System.

* Although our analysis of payroll data indicates that some of these employees stopped receiving regular paychecks from the State, we did not assess whether they were merely inactive during that time and later returned to duty.

To be more effective in addressing its vacancy problem, CDI created a
Recruitment and Background Investigations Team in August 2016 to be
responsible for its recruiting efforts. This team created both a
recruitment strategic plan and strategic vacancy report. The recruitment
strategic plan focuses on building new recruiting efforts by developing
personalized relationships with applicants before they are hired and on
structuring CDI’s internal organization and growing its budget to support
more streamlined processes for background investigations and hiring.
Because CDI has yet to fully implement the strategies it identified in its
recruitment plan, we cannot yet tell whether they will have their intended
effect: the reduction of vacancies.

We believe CDI could potentially increase its candidate pool by amending
its recruitment plan so that it focuses in part on retired law enforcement
officers. Although CDI hires candidates with this type of experience, its
plan focuses on recruiting recent college graduates, attending career
fairs, and developing recruiting opportunities at peace officer academies.
However, we found that other states and two of the three district
attorneys’ offices we visited hire retired or experienced law enforcement
officers as investigators. The captain of CDI’s Recruitment and Background
Investigations Team stated that the plan’s lack of recruiting activities
for experienced and retired law enforcement officers was an oversight and
that in practice, CDI strives to hire from a diverse applicant pool.
Further, he stated that CDI values the qualities that retired and
experienced law enforcement officers can bring, including having less need
for training and being able to serve as mentors for less experienced
investigators. The captain indicated, however, that CDI investigator
positions may be more attractive to law enforcement officers who have
retired from systems other than CalPERS, the State’s retirement system. He
stated that law enforcement officers who have retired from CalPERS would
have to be reinstated into the system, which would affect their retirement.

Despite CDI’s recent progress toward improving its recruiting efforts, we
are unsure whether other factors exist that may affect its retention of
fraud investigators because CDI has not created a retention plan to address
fraud investigator separations and alleviate causes that are not related to
pay. CDI could develop a retention plan based on the results of routine
interviews of separating employees as well as surveys of its current
employees to assess their job satisfaction. According to a human resources
management textbook published by the University of Minnesota, the first
step an entity should consider in developing a retention plan is a formal
method to assess the satisfaction level of employees through exit
interviews or surveys. From these types of data, CDI could begin to create
its retention plan, making sure it is tied to organizational objectives.
The plan should include analyses of the exit interview and survey results,
the strengths and weaknesses of any prior retention efforts, the goal of
the retention plan, and the specific strategies CDI plans to implement.

The chief of CDI’s human resources management division (human resources)
stated that although human resources sent exit surveys to recently
separated staff to voluntarily complete, it did not complete written
analyses of the survey results. The chief asserted that she reviewed all
exit surveys and followed up with program management and executive staff as
warranted. Nevertheless, the captain of the Recruitment and Background
Investigations Team stated his branch did not have access to the results
due to confidentiality. In fact, although employees returned fewer than 15
surveys between 2015 and 2017, CDI could have used the results of the
surveys to create a retention strategy to address common causes for
separation that were unrelated to pay. Our analysis of the exit surveys
found that six fraud investigators who separated from CDI highlighted
dissatisfaction not only with pay, but with investigative training, growth
opportunities, policies and procedures, and promotion potential.

District Attorneys’ Offices Could Have Used CDI’s Unspent Antifraud Funds

As the Introduction explains, state law requires that CDI receive at least
40 percent of the total fraud assessment amount each year, after incidental
expenses. The assessment amounts for fiscal years 2015–16 and 2016–17 were
each about $59 million, of which CDI received about $24 million. As Table 6
shows, CDI spent about $112,000 more than its allotment in fiscal year
2016–17, but it failed to spend roughly $2.4 million (10 percent) of its
allocation in fiscal year 2015–16. In the proposed budget CDI presented to
the Fraud Commission in September 2017 to determine the total assessment
amount for fiscal year 2018–19, CDI divided its costs into three
categories: salaries and benefits, operating expenses and equipment, and
administrative support (that is, indirect costs). In the three most recent
fiscal years, CDI has expended less for salaries and benefits than it
proposed to the Fraud Commission and spent more than it proposed in one or
both of the remaining categories. However, because CDI did not present this
information side‑by‑side to the Fraud Commission, the Fraud Commission may
be unaware of these trends. Additionally, information CDI presented to the
Fraud Commission was not always consistent. For instance, CDI excluded
encumbrances from a spending total for one year while including them in
other totals for the same year.10

Table 6
CDI Spent Less on Personnel Costs Than It Proposed to the Fraud Commission When Requesting Funding
Fiscal Years 2014–15 Through 2016–17

Fiscal year

2014–15

2015–16

2016–17

State Operations Expenditures

Proposed

Actual

Difference

Proposed

Actual

Difference

Proposed

Actual

Difference

Positions*

123

113

10

143

105

38

138

110

28

Salaries and Benefits

$13,802,061

$12,645,347

$1,156,714

$15,295,506

$12,332,180

$2,963,326

15,036,157

14,747,093

$289,064

Operating Expenses and Equipment

3,864,787

4,593,990

(729,203)

4,238,685

5,115,983

(877,298)

4,262,682

4,267,679

(4,997)

CDI Administrative Support

3,728,760

3,952,521

(223,761)

4,000,978

3,929,328

71,650

4,236,330

5,006,936

(770,606)

Total Expenditures

$21,395,608

$21,191,858

$203,750

$23,535,169

$21,377,491

$2,157,678

$23,535,169

$24,021,708

$(486,539)

CDI’s Funding Level

$21,570,608

$23,760,169

$23,910,169

Difference Between Funding Level and Total Expenditures

$378,750

$2,382,678

$(111,539)

Percent Underspent

2%

10%

(0.5%)

Sources: The Fraud Division’s Report to the Fraud Assessment Commission for fiscal years 2014–15 through 2016–17 and CDI’s internal expenditure documents.

Note: CDI presents proposed expenditures to the Fraud Commission at its
September meeting when the Fraud Commission determines funding levels for
the following fiscal year. In other words, proposed expenditures for fiscal
year 2016–17 were presented at the September 2015 meeting.

* We used the positions calculated in the Fraud Division’s Report to the Fraud Assessment Commission because CDI uses a different methodology to calculate these figures than the data we used elsewhere in the text to report vacancy rates. Also, CDI based the calculated number of positions here on staffing levels for fraud investigators and support staff at its headquarters and regional offices.

CDI should be held to stricter reporting standards in order to increase
transparency and help the Fraud Commission make more informed funding
decisions. For example, when the district attorneys’ offices initially
apply for grant funds, they have to provide expansive grant applications,
detailed statistical reports on program activities, financial audit reports prepared by independent auditors, and carry‑over utilization requests for
unexpended funds. However, because the State does not require CDI to apply
for funds to investigate fraud, it is not subject to the same rigorous
application requirements as district attorneys’ offices. In addition,
district attorneys’ offices must provide detailed proposed budgets to the
Fraud Commission, whereas CDI—as we previously mention—only provides its
three major spending categories. In fact, at the Fraud Commission’s most
recent meeting in September 2017, a commission member requested additional
detailed budgetary information related to CDI’s staffing and personnel
costs. CDI’s presentation to the Fraud Commission included an overview of
the program successes and a request for additional funding. It did not,
however, describe whether the additional funds were needed to maintain
current staffing levels or to fully staff the program.

Finally, if district attorneys’ offices wish, for example, to spend more
money on personnel and less on equipment than they originally presented,
they must submit budget modification requests to CDI for approval. No
similar requirement applies to CDI, as it asserts it is not technically a
grantee, and thus it may underspend or overspend in categories without the
Fraud Commission’s approval or knowledge. As a result of this lack of
reporting requirements, the Fraud Commission may not have the information
necessary to understand how CDI spends its assessment funds and what
funding CDI needs, which is critical information for determining the
appropriate total assessment the State needs to collect.

In addition, the insurance commissioner and the Fraud Commission missed an
opportunity to increase the amount of money available to district
attorneys’ offices when they decided to use CDI’s unspent funds to
offset—or reduce—a subsequent year’s collections from employers. Although
we found no direct evidence of a specific decision by the insurance
commissioner and the Fraud Commission regarding the use of CDI’s unspent
funds, a March 2017 letter from the Fraud Commission to Industrial
Relations reduced the total assessment for fiscal year 2017–18 by an offset
amount that appears to include CDI’s unspent funds from fiscal year
2015–16. State law gives the insurance commissioner and the Fraud
Commission the option of using unspent CDI funds to offset or augment
future program funding. The Fraud Commission’s chair stated that he
suggested years ago that the Fraud Commission consider redirecting any
unused CDI funds to district attorneys’ offices rather than offsetting
future assessments; however, the Fraud Commission encountered issues that
prevented it from redirecting the funds at that time, and it has not
reconsidered this approach in subsequent years.

Had the insurance commissioner and the Fraud Commission redirected CDI’s
unspent fiscal year 2015–16 allocation, district attorneys’ offices could
have used the funds to further support their antifraud efforts. State law
in effect caps the allotment that district attorneys’ offices can
collectively receive at 60 percent of the assessment funds, after
incidental expenses. From fiscal years 2013–14 through 2016–17, the
insurance commissioner and the Fraud Commission awarded participating
district attorneys’ offices—37 representing 44 counties for fiscal year
2016–17—the maximum funding allowable under the law. Although two of the
three district attorneys’ offices that we visited underspent grant funds at
least once from fiscal years 2013–14 through 2015–16, both offices received
the required approvals from the insurance commissioner to carry over money
to the subsequent year. Table 7 summarizes the three
offices’ spending. During this time period, the district attorneys’ offices
that applied for funding collectively requested more grant funding than was
available for distribution, often citing the need for more investigative
staff. The amounts the district attorneys’ offices requested suggest they
could have used the unspent funds. Had the insurance commissioner and the
Fraud Commission decided to redirect CDI’s unspent funds, they could have
partially covered the deficit in requested funding for district attorneys’
offices. Table 8 summarizes the budget funding requested and
approved for the three counties we visited.

Table 7
District Attorneys’ Offices We Visited Spent Most of the Fraud Assessment Funding They Received
Fiscal Years 2013–14 Through 2015–16

District Attorney’s Office

Los Angeles County

Orange County

San Diego County

2013–14

2014–15

2015–16

2013–14

2014–15

2015–16

2013–14

2014–15

2015–16

Filled Positions*

31.9

32.9

31.7

19.4

19.0

22.6

25.2

29.4

28.2

Salaries and Benefits

$5,239,923

$5,407,534

$5,786,223

$3,149,065

$3,202,016

$3,725,393

$3,890,686

$3,665,581

$4,152,150

Operating Expenses and Equipment

335,213

243,642

127,174

333,152

283,254

327,315

461,152

671,764

437,881

Indirect Costs†

351,043

347,785

373,560

189,176

188,544

226,989

259,809

248,515

281,720

Total Expenditures

$5,926,179

$5,998,960

$6,286,958

$3,671,393

$3,673,814

$4,279,696

$4,611,647

$4,585,860

$4,871,751

Annual Funding Level

$5,805,244

$5,869,952

$6,458,643

$3,620,608

$3,629,627

$3,966,000

$4,477,303

$4,567,000

$4,990,459

Funds Available From Prior Year and Interest Earned

—

—

—

—

—

—

$229,567

$99,100

$93,398

Funds Remaining/(Overspent)

$(120,935)

$(129,008)

$171,685

$(50,785)

$(44,187)

$(313,696)

$95,223

$80,240

$212,106

Sources: The district attorneys’ offices’ grant applications, audit reports,
expenditure reports, and requests for use of unexpended funds; CDI's Fraud
Division’s reports to the Fraud Commission; CDI’s internal documents; and
interviews with staff of the Orange County District Attorney’s Office.

Note: Due to rounding, totals may differ slightly.

* This row includes both filled investigative and prosecutorial positions
and was calculated using the number of positions and percentage of time
devoted to the workers’ compensation program.

† The district attorneys’ offices’ indirect costs, including those not
readily itemized but necessary to local program operations, may not
exceed 10 percent of their personnel salaries (excluding benefits and
overtime) or 5 percent of total direct program costs (excluding equipment).

Table 8
The District Attorneys’ Offices We Visited Rarely Received the Full Amount of Fraud Assessment Funding They Requested Fiscal Years 2014–15 Through 2016–17

Note: A district attorney’s office’s requested grant amount may not be indicative of the total amount required to operate its program; that is, a district attorney’s office cannot request funding above a certain amount for indirect costs, even though its actual indirect costs may be greater than that amount.

The LA District Attorney provides an example of how the district attorneys’
offices might have used the additional funding. In its fiscal year 2016–17
grant application, the LA District Attorney—which consistently received the
highest number of referrals in the State for the years we
examined—requested additional funding for more personnel. It asserted that
it would use the additional funds to add four workers’ compensation
investigators and explained that it had the staffing resources available to
fill these positions internally. However, the Fraud Commission approved
only $6.7 million for the LA District Attorney—more than $1 million less
than the amount it requested. Given that CDI has struggled to fill its
fraud investigator positions, distributing its unspent funds to district
attorneys’ offices to use for their fraud‑fighting efforts seems logical,
particularly when doing so will likely enable the offices to increase the
number of cases they investigate.

If the insurance commissioner and the Fraud Commission decide to use
unspent CDI funds to augment funding to district attorneys’ offices, CDI
will need to establish processes for doing so. CDI’s deputy general counsel
indicated that before deciding to reallocate unspent funds, CDI must first
address policy considerations and practical hurdles. He stated that
deciding whether unspent assessment funds should be returned to employers
as offsets against subsequent years’ collections or be used to augment the
existing budget awards for district attorneys’ offices is a significant
policy consideration. He added that employers might object if the State
does not reduce the assessment even though it failed to spend the
prior‑year’s funding. The deputy general counsel also asserted that CDI
would need processes for deciding how much to reallocate to individual
district attorneys’ offices and for transferring the funds from CDI to the
offices. Currently, CDI does not have a process for either. Finally, CDI’s
deputy general counsel stated that it might be preferable to allocate
unspent funds to district attorneys’ offices that had not received their
full allocations but had spent their awards. Given that state law requires
district attorneys’ offices to submit to CDI independent audit
reports—which would expose any historical pattern of underspending—and that
CDI has information showing which district attorneys’ offices have
consistently received less funding than requested, we find it reasonable
that CDI develop a process to award and distribute any unspent CDI funds.

Although the District Attorneys’ Offices We Reviewed Have Their Own
Approaches to Fighting Workers’ Compensation Fraud, All Three Coordinate
Their Efforts With CDI

Our review of three district attorneys’ offices found that each had its own
approach to fighting workers’ compensation fraud because each structures
its investigative and prosecutorial efforts to reflect the individual
characteristics of fraud in its county. Although each county fights all
types of workers’ compensation fraud, we reviewed each of the three county
district attorney office’s applications for assessment funds to gain an
understanding of the elements that influence its approach. For example, the
San Diego County District Attorney’s Office asserted in its fiscal year
2017–18 application that premium fraud associated with the underground
economy especially plagues the county and that the size of its population
and its physical proximity to an international border lead to a high volume
of workers’ compensation fraud cases. The LA District Attorney’s
application, on the other hand, stated that it focused primarily on both
provider and employer fraud but had opted to forego pursuing misdemeanor
employer fraud cases due to the lack of investigative resources at CDI’s
Southern Los Angeles County Regional Office. Lastly, the Orange County
District Attorney’s Office stated in its application that it prioritizes
provider fraud in particular because it has determined that, among other
factors, the mix of a large workforce coupled with the skyrocketing growth
of the health care industry in the county creates the essential
demographics to make it prone to provider fraud. In general, we found that
the district attorneys’ offices made choices depending on the type and
magnitude of fraud affecting the counties and the available resources. This
approach appears reasonable.

In their applications for assessment funds, all three of the district
attorneys’ offices we visited submitted joint plans with CDI that described
their efficient use of joint resources. The request for applications
requires that all applicants submit joint plans that create the framework
for effective communication and resources management in the investigation
and prosecution of fraud. Both the county prosecutor and the captain of
each CDI regional office that is responsible for that county must agree
upon the plan. For example, we found that joint plans for all three
district attorneys’ offices we visited included processes for assessing
whether cases merit opening before the offices use their investigative and
prosecutorial resources. The LA District Attorney’s joint plan indicates
that the office conducts a preliminary review to determine the feasibility
of asking the referring party to make a case presentation for any suspected
fraudulent claim that it believes is based on sufficient evidence.
Subsequently, it will determine whether the case merits opening. The Orange
County District Attorney’s Office and the San Diego County District
Attorney’s Office both conduct similar preliminary reviews.

In addition, the three district attorneys’ offices we visited use a process
generally referred to as vertical prosecution, which aids in
balancing their efforts between investigation and prosecution. As we
discuss in the Introduction, a CDI fraud investigator, an investigator at a
district attorney’s office, or both may investigate a case before it is
prosecuted by the district attorney’s office. To balance these efforts, the
vertical prosecution process requires a case investigator to communicate
with the assigned prosecutor at the beginning of the investigation so that
they can work together to build the case from inception through final
adjudication. For example, according to the San Diego County District
Attorney’s Office’s most recent assessment application, it assigns a
prosecutor to a case when CDI opens an investigation, thereby providing
CDI’s investigator with a legal resource should any issues arise. For some
cases, the investigator and prosecutor will hold regularly scheduled
meetings and share case updates throughout the investigation. This enables
the prosecutor to know the facts of the case, and it also ensures that CDI
uses its investigative resources for work that is necessary to the case’s
prosecution. The LA District Attorney asserts that vertical prosecution is
an essential component of developing and implementing an effective and
efficient investigative prosecution plan.

Recommendations

To better address vacancies in its fraud investigator positions, CDI should
take the following actions by June 30, 2018:

Develop and implement a retention plan. This plan should be based on the
results of in‑person exit interviews with separating staff or similar
tools, such as satisfaction surveys, to identify and address potential
causes for separation other than pay. CDI should share the results of any
trends arising from its exit interviews as well as its analyses of survey
responses with the appropriate units as it deems necessary.

Revise its recruiting plan to include the recruitment and hiring of
retired local law enforcement officers.

To better enable the Fraud Commission to determine an appropriate amount
for the total annual fraud assessment, CDI should, within 60 days and
periodically thereafter, meet with the Fraud Commission and agree upon
specific information to include in the Fraud Division’s report to the Fraud
Commission. Additional information could, for example, include a comparison
of proposed, projected, and actual expenditures by category for a specific
fiscal year, calculated using a consistent methodology.

To better ensure the timely and effective use of fraud assessment funds to
fight workers’ compensation fraud in California, CDI should, by June 30,
2018, develop and implement a process to use its unspent funds to augment
funding to district attorneys’ offices rather than to offset collections
from employers for subsequent years.

We conducted this audit under the authority vested in the California State Auditor by Section 8543 et seq. of the California Government Code and according to generally accepted government auditing standards. Those standards require that we plan and perform the audit to obtain sufficient, appropriate evidence to provide a reasonable basis for our findings and conclusions based on our audit objectives specified in the Scope and Methodology section of the report. We believe that the evidence obtained provides a reasonable basis for our findings and conclusions based on our audit objectives.

For questions regarding the contents of this report, please contact
Margarita Fernández, Chief of Public Affairs, at 916.445.0255.

Footnotes

6 The term earned premiums refers to the amount of premiums an insurer recognizes as revenue for a certain period of time, such as a year. Go back to text

7Original Medicare is the traditional fee‑for‑service program the federal government offers and includes Medicare Part A (hospital insurance) and Part B (medical insurance). Go back to text

8 According to its website, the Ponemon Institute conducts independent research on privacy, data protection, and information security policy to enable public and private organizations to have a clear understanding of the trends in practices, perceptions, and potential threats that will affect the collection, management, and safeguarding of personal and confidential information about individuals and organizations. Go back to text

9 The remaining 12 went to a variety of other state agencies. Of the 41 who left state service, several took positions with district attorneys’ offices or other local law enforcement entities, some of which also offered higher pay. Go back to text

10 An encumbrance represents a commitment of all or part of an appropriation through a contract, purchase order, or other means. Go back to text